Why buy health insurance for relatively inexpensive, routine medical expenditures? This is a question Austin Frakt asked at his blog the other day. To be charitable, he missed the obvious answer. If you buy insurance for items you could easily afford to pay for out of pocket, you will almost certainly be throwing money away. Check out the premiums for standard insurance products in the area where you live. I can almost guarantee that first dollar coverage will never make any financial sense.
Basically, there are two ways to insure for medical expenses: third-party insurance and self-insurance. When we pay health insurance premiums, we are purchasing third-party insurance. The alternative is to buy less coverage from an insurance company and put money into an account which you own and control and from which you can pay for medical expenses directly.
How much of your health care dollars should you devote to third-party insurance and how much to self-insurance? That depends on market prices.
You Better Shop Around
Take a look at the table below. It shows the premiums charged by UnitedHealthcare for a middle-aged family of four in Dallas. Consider the first group of plans, with a $35 copay per office visit. The monthly premium for a family of four with a $1,000 per person deducible ($2,000 per family) is $1,450 — or $17,400 per year.
Now consider the consequences of choosing a higher deductible.
In moving from a $1,000 annual deductible to a $2,500 deductible, the family is exposed to an additional risk of $1,500 per individual ($3,000 per family). In return,
they can save almost $5,000 a year in reduced premiums! In moving from a $1,000 to a $5,000 deductible, the family takes on an additional $4,000 of risk per individual (but no more than $8,000 per family). But the premium savings is nearly $8,000.
If you think about it, this table is inexplicable. Why would anyone in his right mind buy the $1,000 deductible plan? Or in the second grouping, why would anyone ever buy a plan with a $1,500 deductible? Gerry Musgrave and I discovered the same phenomena when we studied individual insurance premiums around the country two decades ago. At the time, I decided that as more people began to understand deductibles these oddities would disappear. I was wrong.
Note: Dallas is a high-cost city and the savings from higher deductibles may not be as large in other areas. Also, the savings from higher deductibles are generally smaller for group insurance.
Now back to Austin for a moment. He cites an NBER paper showing that large insurers get better price discounts than uninsured patients buying care on their own. But that’s only because the typical uninsured patient is ignoring market opportunities to get better deals. As I showed in previous posts (here and here ), if you are paying cash and you are willing to travel, you are likely to get care for about half the price that Blue Cross pays.
What about people who have high deductible insurance? When they pay out of pocket they almost always pay whatever rate their insurer has negotiated, no matter who is paying the bill.